This article was originally published in Blakes Bulletin on Labour & Employment - February 2005
Article by Connie Reeve, ©2005 Blake, Cassels & Graydon LLP
Two types of clauses in employment and non-competition agreements frequently become the subject of litigation, usually on the issue of enforceability. This article addresses some key enforcement issues employers should note before, during and after executing these agreements.
The most commonly litigated clause attempts to restrict competition following the end of the employment relationship. The second most frequently litigated is the termination clause.
Non-Competition & Non-Solicitation Covenants
One of the leading cases on the enforceability of post-employment restrictions is still the 1935 decision of the Supreme Court of Canada in Maguire v. Northland Drug Company Limited. As recently as January 2003, a judge of the Ontario Superior Court of Justice confirmed Maguire is good law in Ontario.
In Maguire, the Supreme Court identified a number of questions that had to be addressed when the enforceability of a restrictive covenant was being considered, including:
- What are the rights that the employer is entitled to protect by a restrictive covenant?
- Is the covenant, as drafted, limited to trying to protect those proprietary rights?
It is well established that any post-employment restriction on competition or solicitation that goes beyond what is "reasonably required" to protect a company’s proprietary rights, such as confidential marketing or pricing information or its client relationships, will not be enforceable. When imposing post-employment restrictions on employee’s activities, particular attention must therefore be paid to the scope of the activities restrained, the length of the proposed restrictions, and the geographical scope of the restrictions. The overriding question courts ask is whether or not the clause goes beyond what is reasonable to furnish appropriate protection to the business.
A decision about whether a clause is reasonable turns on the facts of the case or, as described by the Supreme Court of Canada in Elsey v. J.G. Collins Insurance Agency Ltd., "… upon an overall assessment of the clause, the agreement within which it is found, and all of the surrounding circumstances." As such, in evaluating reasonableness, courts will look at the nature of the employment, the employee’s duties and responsibilities, the geographic scope of the employee’s activities, whether the employee has access to truly confidential information, and whether the employee has, or can develop through his or her employment, a "special relationship" with clients or suppliers.
As the law in Canada has developed, it is clear the courts will only uphold non-competition clauses in exceptional cases. A 2000 decision of the Ontario Court of Appeal applied what it described as the "general rule" that non-solicitation clauses are to be preferred over non-competition clauses where non-solicitation clauses would adequately protect a company’s interests. The Court of Appeal said a "non-competition clause is a more drastic weapon in an employer’s arsenal. Its focus is much broader than an attempt to protect the employer’s client or customer base; it extends to an attempt to keep the former employee out of the business."
For example, in one recent case, a mutual fund company sought to enforce a non-competition covenant that prohibited a fund manager’s employment or association with any company soliciting, servicing or catering to any of the clients of its group of companies. The court found this covenant was unreasonable because the scope of the restricted activities was too broad in light of the fund manager’s actual duties and contained no geographical restriction. It is reasonable to assume that if the fund company had drafted a non-solicitation covenant limited to restricting the former fund manager’s contact with the brokers and entities with whom she had regular contact, the company would have had a much better chance of successfully restraining her post-employment activities. Further, the absence of a specific geographical limitation would not be relevant if the non-solicitation restriction was limited to a specific list of clients and brokers with whom the employee had regular contact.
Other recent cases relating to the enforceability of non-competition agreements include those discussed below:
- In Moffatt (c.o.b.) Rising Sun Martial Arts v. Sanchez, a non-competition agreement that restricted the defendant from teaching at, owning or operating a martial arts school within a 10-mile radius of the Rising Sun Academy, was upheld. The trial judge was satisfied that the unique relationship between student and teacher was such that a student would want to follow a teacher who left the martial arts studio. Here, restricting solicitation would not be effective since the students would probably go to the new studio even in the absence of solicitation. The court also found the temporal and spatial features of the covenant to be reasonable.
- Non-competition and non-solicitation covenants contained in an agreement between an H&R Block franchisee and its employees were found to be overly broad in the case of 947535 Ontario Ltd. (c.o.b.) H&R Block v. Jex. First, with respect to the geographical scope of the non-competition covenant, the court found the operations of the relevant franchise itself was limited to the city limits of Owen Sound, but the covenant sought to include an area within a 25-mile radius of the city. Second, the two-year time limit was held to be too long, given that the former employees were temporary employees who only worked approximately five months a year for H&R Block. Third, the scope of the covenants included many clients with whom the defendants had never had contact, including clients whom the defendants never serviced and clients of the franchisor’s other location.
- In Valley First Financial Services Ltd. v. Trach, a court also held that non-competition and non-solicitation clauses were too broad to be enforceable. The defendants were not involved in selling life insurance, general insurance or financial services, yet the clauses restricted the defendant’s activities in all areas of the plaintiff’s business. Further, it should be noted that the court explicitly held that the offending parts of these clauses could not be severed from the unoffending parts, and declared the covenants unenforceable in their entirety. The courts will also not "write down" excessively broad clauses.
Based on the cases discussed above, it is clear that before asking legal counsel to draft non-solicitation or non-competition covenants for an employment or confidentiality agreement, employers should consider:
- What are the proprietary interests the company wants to protect?
- Can these interests be adequately protected by a confidentiality clause?
- What is the narrowest form of post-employment restriction that would be effective in protecting the company’s proprietary interests?
- Would the proposed restriction keep the employee "out of the business"?
The battleground in respect of termination provisions largely concerns the validity of contractual provisions that seek to limit an employee’s entitlements on termination to payments required by employment standards legislation. This is fertile ground for litigation because of the significant differences between statutory and common law notice obligations.
The starting point is usually the 1983 decision of the Ontario Court of Appeal in Wallace v. Toronto-Dominion Bank. In that case, the provision in an employment agreement limiting the plaintiff’s entitlement to the minimum standards found in the Canada Labour Code was challenged as unenforceable when the plaintiff was constructively dismissed after eight years of service. The trial judge found that the contractual limitation was unfair and that it did not limit the plaintiff’s entitlement to receive damages in lieu of reasonable notice. On appeal, the Bank prevailed. The majority judgment in the Court of Appeal frankly admitted that there was no proper evidentiary foundation laid at trial for setting aside the contract or refusing to enforce its terms. There was no claim in the pleadings that the contract should be avoided on the ground of unfairness or unconscionability, and only "meagre evidence" with respect to the formation of the contract.
The Court, however, left a door open, saying that there can be circumstances when "a contract between an employer and an employee may, in a given factual situation, contain terms so onerous or blatantly unfair as to warrant judicial intervention."
Subsequent cases have tried to produce a different result, but with little success. In a recent decision, Lloyd v. Oracle Corp. Canada, the plaintiff’s employment letter contained a clause regarding termination without cause that only required notice in accordance with the Ontario Employment Standards Act.
At the time of termination, the plaintiff was a Regional Vice-President earning $206,976 per year. The plaintiff argued that the clause established a floor for the notice period, but not a ceiling.
The court found the language of the clause was sufficiently clear to rebut the presumption of reasonable notice. The court therefore agreed with the defendant company that the termination clause provided a ceiling for the notice required to terminate the plaintiff’s employment. Of note is the fact that the court found that the plaintiff did negotiate the terms of the employment agreement, even though the plaintiff was told that the termination clause itself was not negotiable. According to the evidence, the plaintiff had demanded and received a grant of stock options, possibly in return for accepting the clause.
Of course, a termination provision that fails to comply with the minimum statutory notice provisions of an employment standards statute will fail. Further, it appears that trial judges are increasingly concerned with issues of fairness and conscionability. Courts have expressly recognized that the contract of employment has many characteristics that set it apart from an ordinary commercial contract, among them the lack of free bargaining power.
As such, in assessing whether a termination provision that limits an employee’s entitlement to the minimum standards found in employment standards legislation will be enforced, it is important to consider:
- The employee’s level of sophistication
- Whether the employee had an adequate opportunity to consider the contract
- Whether there was access to legal advice
- Whether there has been a substantial or significant change in the essential nature of the employee’s responsibilities since the date of execution of the employment agreement.
In summary, care must be taken if an employer wants to rely on a non-competition agreement or a termination provision limiting an employee’s entitlement on dismissal to that provided by employment standards legislation. Employers should be mindful of the factors the courts will consider when assessing the enforceability of such provisions.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.